Topic 3: A Framework for Detecting Financial Statement Fraud

Having an unduly complex organization structure should most likely be categorized as a symptom of: 1. Fraud 2. Poor internal controls 3. Incompetent internal controls 4. None of the above

1. Fraud

What are the 4 Corners of the Fraud Exposure Rectangle?

1. Management and Directors 2. Relationships with Other Entities 3. Organization and Industry 4. Financial Results and Operating Characteristics

The Framework for Detecting Financial Statement Fraud is critically important because: 1. Each type of fraud is unique (e.g., revenue recognition, asset overstatement) and thus each type of fraud requires a unique detection framework. 2. Many of the approaches used to detect fraud exposures are similar, regardless of organization or fraud scheme. 3. The role of the auditor and the tools and techniques auditors use vary according to fraud. And, this topic is important because it emphasizes those differences. 4. All of the above.

2. Many of the approaches used to detect fraud exposures are similar, regardless of organization or fraud scheme.

If, as an auditor, you discover a unique relationship between the client CEO and a bank president with whom the company has loans, and you investigate further, what part of the Fraud Exposure Rectangle are you investigating? 1. Management and Directors 2. Relationships with other Entities 3. Organization and Industry 4. Financial Results and Operating Characteristics

2. Relationships with other entities

Of all the four corners of the Fraud Exposure Rectangle, auditors traditionally focused on which part (and thus failed to evaluate the other three corners)? 1. Management and Directors 2. Relationships with other entities 3. Financial Results and Operating Characteristics 4. Organization and Industry

3. Financial Results and Operating Characteristics

A Variable Interest Entity (VIE) can be: 1. Equity Investments 2. Leases 3. Forward Contracts 4. All of the above

4. All of the above

Which of the following areas of questions should auditors consider when analyzing management's exposure to potentially perpetuate fraud? 1. Significant declines in customer demand and client sales. 2. High degree of competition and market saturation accompanies by declining margins. 3. High employee turnover 4. All of the above

4. All of the above

According to the financial statement fraud detection framework, fraud is rarely detected by which of the following? 1. Breaking down and analyzing internal controls. 2. Understanding the inherent risks of a specific industry. 3. Learning management's motivations. 4. Analyzing the financial statements

4. Analyzing the Financial Statements

When a firm changes lawyers, the firm is required to file an 8-K, just like with a change of auditors. (T/F)

False. False because they do not have the same disclosure requirements. That is why it is important to look more closely when a change of legal representation occurs.

Fraud is less likely to occur when there are family relations involved with management and other members of the company. (T/F)

False. Families are usually complex, and complications susceptible to and symptoms of fraud.

Financial statement fraud occurs over 85 percent of the time from collusion occurring among middle managers to low management, thus fooling auditors and top management.

False. Financial statement fraud is usually perpetuated by top management, and most often in behalf of the organization.

The importance of examining directors and management is to determine if their exposure to and motivation for committing fraud is immaterial.

False. Management always has access to all three corners of the fraud triangle (Attitude, Opportunity, and Incentive).

Why would the relationships between lawyers and firms be examined closely?

Lawyers advocate for their clients and will support them until it is blatantly obvious that fraud occurred.

The frauds at Computer Systems (CEO was Robert Reed Rogers) and Lincoln Savings and Loan (Charles Keating) had what auditor failures in common?

The auditor's did not look into management's background.

Which aspect of management is being evaluated when reviewing how involved the Boards of Directors are in decision-making processes and having a capable and involved internal audit committee? 1. Ability to influence decisions 2. Management turnover 3. Their motivations 4. Their backgrounds

1. Ability to influence decisions

What are the 3 Corners of the Fraud Triangle?

1. Attitude 2. Opportunity 3. Incentive

According to Pincus, Asene, and Wright, checklists during audits constrain auditors from reasoning strategically. (T/F)

True

An active Board of Directors and Audit Committee drastically decreases the opportunity for management to commit fraud. (T/F)

True

Fearful of offending company personnel and being intimidated by company management are two reasons that an auditor could fail to react properly to negative evidence. (T/F)

True

Looking at management's motivations for committing fraud is analyzing the incentive portion of the Fraud Triangle. (T/F)

True

Recognizing intangible assets and intercompany transactions occurring at strategic times should be more closely examined by the auditor. (T/F)

True

SAS No. 99 has the new requirements of auditors to ask management if they are committing, or are aware of, any instances of fraud. (T/F)

True